(Reuters) - The Palestinian Authority and Israel are holding economic
talks despite frozen peace negotiations in a bid to revamp revenue
collection and help relieve the Palestinian government´s deepening
debt crisis, officials said on Sunday.

Israel has occupied the West Bank since 1967 and interim peace deals
have tasked it with levying taxes and customs duties on the
Palestinian Authority´s behalf, amounting to around $100 million a
month, on goods imported into the territories.

However, it has previously frozen payments to the Palestinian
government during times of heightened security and diplomatic
tensions, provoking strong international criticism.

"There are still difficulties, but I hope that we will be able to
reach an agreement soon ... both for the benefit of the Palestinian
Authority and for the benefit of the state of Israel," Israeli
Finance Minister Yuval Steinitz told reporters on Sunday, declining
to discuss details of the meetings he described as secret.

Measures now under discussion include developing electronic records
of imported goods, enabling Palestinian officials to directly monitor
the flow of goods and follow up on instances of tax evasion, which
could in turn generate more revenue, Palestinian officials said.

The Palestinian government in the occupied West Bank is reeling from
a sharp drop in foreign aid following its unilateral campaign for
statehood at the United Nations last year. It hopes increased tax
revenue could help prevent cuts to public salaries and social
benefits.

The talks are aimed specifically at overhauling the "Paris Protocol",
signed in 1994 under which Israel collects taxes and customs for the
Palestinian Authority.

"Israel has killed the Paris economic agreement through security
measures and closures, and by preventing freedom of movement,"
Mohammed Shtayyeh, a member of the Palestinian negotiating delegation
told Reuters.

"The Palestinian Authority must have sovereignty over its territory."

Talks on a permanent peace agreement leading to Palestinian statehood
stalled in 2010 in a dispute over Israeli settlement building in the
West Bank.

NO PEACE BREAKTHROUGH

However, the economic deliberations should not be seen as a
breakthrough that could lead to renewed peace negotiations, the
Palestinians said.

"The Israelis are trying to exaggerate the issue in order to cover up
a diplomatic stalemate and deadlocked peace process," Ahmed
Majdalani, Minister of Agriculture and Labour told Palestinian radio.

The talks come as the Palestinian Authority´s draft annual budget,
required by law to be finalized by the end of March, paints a grim
picture of the government´s finances.

In a report released on Saturday, the International Monetary Fund
projected that if donor countries continued to withhold promised aid,
and if last year´s budget deficit of $1.1 billion were to recur this
year, the PA would find itself with a budget shortfall of $500
million.

Citing commitments to rein in expenditures and put forward a leaner
budget, Palestinian officials foresee a $950 million total deficit
and $330 million financial gap, still a vast sum which is generating
deep concern.

"The Palestinian government has made great efforts to control public
spending this year but cannot hope to fill a gap this huge,"
Majdalani said.